UK Inflation Falls Again But Firm Wage Growth Keeps BOE on Track For A Rate Hike

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UK inflation has undershot expectations for the second consecutive month with core inflation printing 2.3% in March vs 2.5% expected and headline inflation printing 2.5% vs 2.7% expected. However, a portion of the latest declines can be explained away by unique events such as the fall in airfares which came despite the early Easter. Furthermore, the government having not made any changes to the alcohol/tobacco taxation in March has weighed on data.

Weak Inflation Due To Readjustment Following GBP Brexit Crash

Fundamentally, the fall in core inflation is largely due to the fact that prices have now adjusted to the post-Brexit GBP decline. This is most evident in the declines seen in the price of goods such as TVs and computers, which are currency-sensitive. Given this dynamic it is likely to expected that core inflation will continue to move lower back towards target by summer.

Given that the inflation overshoot was a strong driver behind the BOE’s tightening of rates, the recent declines can be seen as having taken some pressure off the BOE to further tighten policy over the coming months. However, wage growth, which is crucial to the bank’s decision process, has continued to print robustly over recent months.

Firm Wage Growth Keeps BOE on Track For A Rate Hike

The latest wage growth reading came in at 2.8%, above inflation and up to its highest level since the GFC. This is a solid signal that the squeeze on household incomes has bottomed and conditions are set to improve for consumers. However, this is yet to show in consumer confidence readings.

Firm wage growth keeps BOE on track for a rate hike at the upcoming May meeting. However, the main focus will be on the bank’s guidance for the rest of the year. Policymakers have signalled their support for a further rate hike later in the year. This view is supported by the recent positive developments within the Brexit negotiations.

Brexit Negotiations Support BOE Rate Hike

The UK and EU unexpectedly agreed a transitional period of 21 months for the UK, far ahead of time. This took a great deal of pressure off both sides and boosted investor sentiment towards GBP. Knowing that the UK will retain access to the single market for 21 months after leaving the EU has assuaged investor concern and fuelled a spate of GBP buying.

Latest positioning data shows that GBP has been consistently bought over the last month with upside exposure having almost doubled over that time frame as investors see the positive developments with Brexit as being a green light for BOE rate hikes.

Technical Perspective

Firm Wage Growth Keeps BOE on Track For A Rate Hike 1

With price having recently tested the 2018 high and once again failed, there is scope for a deeper correction lower with a potential double top in play. Bullish channel support, coming from Q3 2017 lows, will provide the next key support while a break of this structure will open the way for a run down to deeper support at the 1.3615 level which was the summer 2017 high.

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